Contractual Managerial Incentives with Stock Price Feedback
American Economic Review · 2019 · Volume 109 · Issue 7
Abstract
We study the effect of financial market frictions on managerial compensation. We embed a market microstructure model into an otherwise standard contracting framework, and analyze optimal pay-for-performance when managers use information they learn from the market in their investment decisions. In a less frictional market, the improved information content of stock prices helps guide managerial decisions and thereby necessitates lower-powered compensation. Exploiting a randomized experiment, we document evidence that pay-for-performance is lowered in response to reduced market frictions. Firm investment also becomes more sensitive to stock prices during the experiment, consistent with increased managerial learning from the market.
Keywords
Search, Learning, Information and Knowledge, Communication, Belief, Unawareness, Asset Pricing, Trading Volume, Bond Interest Rates, Information and Market Efficiency, Event Studies, Insider Trading, Financing Policy, Financial Risk and Risk Management, Capital and Ownership Structure, Value of Firms, Goodwill, Mergers, Acquisitions, Restructuring, Voting, Proxy Contests, Corporate Governance, Personnel Management, Executives, Executive Compensation, Personnel Economics: Compensation and Compensation Methods and Their Effects
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